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Video game stocks looking bullish

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After an exhaustive 92-page report about video game stocks, UBS Investment Research analyst Benjamin Schachter came to a fairly obvious conclusion: "It's all about the games."

The analyst initiated coverage on five stocks, recommending investors buy three of them: Activision, THQ and GameStop. He is neutral on Electronic Arts and Take-Two Interactive.

About the sector as a whole, Schachter is bullish that online gaming, advertising and mobile gaming will finally be meaningful after years of unfulfilled promise.

The analyst said it's a good time to look at the industry because the new hardware cycle has been launched and it ought to have up to seven years of life in it, about two years longer than the last cycle (2000-05).

"We think it is that simple," he said. "Pick the companies making games that consumers want and you'll likely be rewarded with superior stock performance."

For those not interested in guessing which games will be hits, GameStop, the video game retailer, might be the stock for you. He's bullish on the company's used-games business and global expansion plans. He has a $44 target on shares, which closed Monday at $33.31.

Part of what he likes about Activision is its ties to the movie industry, with franchise hits based on "Spider-Man" and "Shrek" as well as games based on the upcoming "Bee Movie" and "Transformers."

Schachter has a $25 target on Activision shares, which closed Monday at $20.17.

He also likes THQ's association with Hollywood, particularly concerning games aimed at children. THQ has licensing deals with Pixar, Nickelodeon and WWE.

Schachter has a $44 target on THQ shares, which closed Monday at $34.75.

THQ also is heavily leveraged to Nintendo, and that company's Wii console is on fire. In fact, by 2010, Schachter expects the Wii to dominate worldwide, though not necessarily in the U.S.

The analyst estimates that the installed worldwide base for Wii will be at 51.9 million in 2010, beating out PlayStation 3 (41.2 million) and Xbox 360 (38.9 million).

In the U.S., he is expecting Wii to bring up the rear, though not by much. He predicts the installed base for Xbox 360 to be highest, at 22.5 million. PlayStation 3 is next at 21 million and Wii is at 18.9 million.

What investors need not focus too much attention on are PC games, sales of which have fallen in the U.S. from $1.5 billion in 2001 to $970 million last year, Schachter said.